InJanuary 1994, the United States, Mexico, and Canada implemented the NorthAmerican Free Trade Agreement (NAFTA).
The goal of NAFTA is to create bettertrading conditions through tariff reduction, removal of investment barriers, andimprovement of intellectual property protection. NAFTA continues to graduallyreduce tariffs on set dates and aims to eliminate all tariffs by the year 2004.Before NAFTA was established, investing in Mexico was a difficult process.
Investors needed the Mexican Government’s approval and were also required tomeet specific investment guidelines. These requirements necessitated investorsto export a set level of goods and services, utilize domestic goods andservices, and transfer technology to competitors. Under NAFTA, investors nolonger need government approval to invest and are treated as domestic investors.NAFTA has also increased intellectual property rights and allowed companies toobtain patents in Mexico and Canada. In the past, companies were hesitant toexport research and development intensive goods; with increased intellectualproperty protection, however, exports of these goods has shown a definiteincrease. As a result of better trading conditions, exports and imports of mostother goods have increased along with the research and development intensivegoods. In Mexico, the elimination of investment barriers has allowed investmentto expand. Increased trading and investment has then created many jobs, raisedthe Gross Domestic Product, and lowered consumer prices.
The macroeconomicprinciples defined in Economics 103 relate to NAFTA’s impact on aggregate supplyand demand, employment, investment, and their effects on national income. Thefree trade established by MERCOSUR also involves countries within South America.MERCOSUR, the Southern Common Market ( Mercado Common del Sur) was establishedin 1991 after a series of other free trade treaties failed to meet the standardsof the countries involved.
It is set up on the basis of free trade zones andeventually to lead to a common market. Before MERCOSUR there was ALALC, theLatin American Free Trade Association. It was formed in 1960 and set up freetrade zones through the periodic negotiations between the members of theassociation. ALALC ended in the 1970’s due to these negotiations because theywere left to the discretion of the countries involved and unfair practicesstarted to occur. After ALAC, came ALADI, the Latin American IntegrationAssociation.
Founded in 1980, it established economic preference zones insteadof free trade. This encouraged economic growth and increased actions andagreements between countries that previously had no connections. In 1986Argentina and Brazil signed a Treaty for Integration, Cooperation, andDevelopment which was originally set up to remove tariff barriers and tietogether the macroeconomic policies of the two countries. This Treaty is whatled to MERCOSUR. MERCOSUR is a process of integration to form a common market onthe foundations of open regionalism. In March of 1991 Paraguay and Uruguayjoined MERCOSUR and most recently Chile became a part of the market in 1996. Thegoals set by the agreement are to create free transit of production goods andlifting of non-tariff restrictions on transit goods. It was set up to adopt acommon trade policy with nations that are not a part of the market and to set upa fixed common external tariff for all to follow.
There are quite a few othergoals that was set by MERCOSUR including a clause that states that the countriesinvolved will be able to adjust their laws for the purpose of strengthening theagreement. The main point of MERCOSUR is to set up free trade among SouthAmerican countries and to encourage new countries to join (americasnet.com).Another related trade agreement conveying the benefits of international trade isthe General Agreement on Trade and Tariffs (GATT). A trade agreement thatconveys the positive outcomes of international trade is the General Agreement onTrade and Tariffs (GATT). It was created in 1947 and like NAFTA promotesinternational trade through the reduction of tariffs. Today, GATT encompassesover one hundred countries and 90% of the world’s trade goods (Sabir 1). Therehave been eight different versions of GATT, each resulting in a new tradeagreement.
The most recent is referred to as the Uruguay Round and is one of thelargest and most comprehensive trade pacts in history (Deng 1). The UruguayRound Agreement cuts tariffs by one-third, increases coverage for textiles,clothing and agriculture and creates a new World Trade Organization(Congressional Digest 258). The WTO settles dispute settlements, regulates thepolicies agreed upon and reviews countries’ trade practices and policies.
Inaddition, the Uruguay round proposes reductions in nontariff protective barriersto trade (Gottheil 350). The Uruguay Round and WTO make up an important part ofGATT. GATT as a whole is based on principles that ensure all participatingcountries receive benefits. These principles include nondiscrimination,protection of domestic industries and provision of stable basis for trade(Congressional Digest 258). With such a solid foundation, the policies of GATThave taken force. Much like NAFTA, GATT proposes to increase trade through thereduction of tariffs.
However, GATT is more inclusive of the internationaleconomy. As NAFTA, MERCOSUR, and GATT establish free trade throughout theAmericas and other parts of the world, the European Free Trade Agreement (EFTA)represents countries throughout Western Europe. It was initially formed in 1960by Austria, Denmark, Norway, Portugal, Sweden, Switzerland, and the UK. Theoverall objective of the EFTA and of these founding states was to remove tradebarriers throughout Western Europe, such as import tariffs and quotas, and touphold open practices in world trade (EFTA Page). The framework of the EFTA haschanged significantly since its initial founding as many member states have comeand gone along the way. In 1972, the existing EFTA countries signed free tradeagreements with the European Union, thus eliminating import tariffs onindustrial products. Since then the EFTA has worked to strengthen itsrelationship with the European Community.
The current constituents of the everchanging EFTA include Iceland, Liechtenstein, Norway, and Switzerland (EFTAPage). The free trade agreements established by the EFTA cover intra-EFTA trade,trade with the European Union, and free trade outside of the EFTA or EU. TheEFTA is currently in the midst of procuring free trade agreements with countriesin Central and Eastern Europe and even with other countries around the world(EFTA Page). These free trade agreements serve to promote unified movementwithin the EFTA’s economic relationships and to strengthen Europe’sinternational trade alliances. According to EFTA web page, free tradeestablished by the EFTA is an, “essential process in the continuousbuilding of economic, social, and political ties between the countries of Europeand thus enhancing our common objective of closer European integration”(EFTA Page).
Agreements with the EFTA reduce tariffs between countries, enhanceand allow for more stable foreign investment, and support the removal of tradebarriers. In establishing all of these rights, the EFTA hopes to create anenvironment that is supportive of entrepreneurship, competition, and economicactivity within its various market structures (EFTA Page). Analysis Free Tradeagreements are prevalent throughout the world, each representing trade within aparticular region. The success of free trade is unique to each individual tradeorganization.
NAFTA, MERCOSUR, GATT, and the EFTA, overall, have created foundedmany positive aspects in international trade. The free trade that NAFTA hasestablished among the United States, Mexico, and Canada has greatly benefitedthe U.S. economy. During the years from 1994 to 1997, U.
S. trade with Mexico andCanada rose 44 percent. This extensive growth is accredited primarily to thereduction of tariffs. As tariffs were lowered, U.S. goods became cheaper andmore competitive in Mexican and Canadian markets, and at this lower price levelthe quantity demanded of U.S.
goods increased. On the attached graph, as theprice level drops from A to B, the quantity demanded increases from C to D; itbecomes less expensive for U.S. firms to supply goods to Canada and Mexico asthe supply curve shifts from AS to AS’. In order to meet the new demand, thefirms must hire new workers and increase investment. Between 1994 and 1997, 90to 160 thousand jobs were created in the U.S.
due to the increase of trade withMexico, and 2.4 million jobs were dependent upon trade with Mexico and Canada.The increase in employment and investment then leads to increased nationalincome. The work of NAFTA has also served to benefit Mexico’s economy; inaccordance with the United States’ economy, Mexico’s exports have increased,more than doubling since 1993. The elimination of investment barriers has causeda dramatic rise in foreign investment from four billion in 1993 to ten billiondollars in 1998. NAFTA has enabled Volkswagen, IBM, and the textile industry toseek labor and materials in Mexico. In 1994, a Canada-based entrepreneurinvested four million dollars in a metal-stamping plant. The plant is now amajor material suppler for Volkswagen although it was originally intended toemploy only 130 people.
The plant currently employs 1,300 workers and generates57 million dollars in sales each year. NAFTA has also allowed IBM to createplants in Guadalajara that would otherwise have been built in Asia. As a result,the exports of IBM de Mexico have increased from 350 million to 2 billiondollars in five years and the increased exports have created over 270 jobs.Mexico’s textile industry, too, has grown as a result of NAFTA, in 1996overtaking China to become the largest supplier of textiles to the UnitedStates. U.
S. mills invest hundreds of millions of dollars to build plants inMexico as an effect of the reduced tariffs and shipping time. It takes onlyeighteen hours to ship goods to the Mexican border, while it takes twenty-onehours to China.
Increased investment and exports have created jobs and increasedGDP. In 1998, Mexico’s economy grew 4.5 percent and economists predict that itwill grow an additional 2.5 percent in ’99. Free trade under NAFTA has alsoencouraged international specialization, the production of only the goods that aparticular economy can produce most efficiently.
If the U.S. for example, isefficiently manufacturing cars and Mexico, producing corn, then the U.S. shouldproduce only cars and Mexico, only corn. They are more efficient if they eachproduce at their highest output, and trade for other goods. Internationalspecialization increases efficiency, lowering consumer prices; consumers nolonger have to pay for inefficiently produced goods. The benefits of NAFTA aretherefore, increased employment, raised national income, and lower consumerprices.
MERCOSUR, again like NAFTA, has had an overall positive influence onfree trade throughout the Americas. The economic goal of MERCOSUR is to be ableto coordinate the macroeconomic and sectional policies of the countries involvedin relation to foreign trade and several other common markets. It also ensuresfree trade competition among the nations with in the agreement. It was formed toimprove the economies by making them more competitive and efficient (Embassy ofUruguay). The time line goal of MERCOSUR was to start with Argentina and Brazilin 1995 to reduce tariffs some and in 1996 to reduce tariffs by 25 percent andincrease each year by another 25 percent until in 1999 tariffs were 100 percentgone. Because Paraguay and Uruguay joined the Treaty later the dates for theelimination of their tariffs are pushed back a whole year so that by the year2000 they will have 100 percent eliminated tariffs.
The downfall of thiselimination of tariffs is that some businesses will have to cut back andrestructure so some people will loose their jobs, but in the long run theeconomy will grow stronger from it. However, the social security system for thecountries will be transformed such that a worker can work in any of the membercountries and accumulate years until retirement and still receive a pension (americasnet.com).Each of the countries is using MERCOSUR in a different way to increase theirproductivity. In Brazil through privatization they use MERCOSUR to attractoutside investors for industries and services to improve roads and railways andother large industries like power. Argentina is also using privatization toincrease opportunities with their airports.
Paraguay and Uruguay are taking moreadvantage of the integration process. In Paraguay they are using it to increaseand improve waterways and in Uruguay the are using it to build a bridge anddistribute gas and electricity (americasnet.com). All of the countries haveincreased their GDP since the induction of MERCOSUR and have become moreeconomically independent. Argentina has gone from a recession in 1988 through anincredible recovery through to 1996. They have increased their exports by 13,000form 1993 to 1997 and exports have increased by 15,000 in the same period oftime (Argentina Brief). Other MERCOSUR countries have experienced the sameresults and are continually growing. The one exception to the benefits ofMERCSUR would be the economy of Paraguay.
Before they joined the market, theywere the best performing country in the region, but now they have fallen behindall the other members in MERCOSUR as a result of the political instability andsmall domestic market (Sabkar, Maysoon). The effectiveness of GATT is that itapplies to a majority of the economy. In the market of major industrial goods,tariffs have been eliminated and reduced in the developing markets of:construction equipment, agricultural equipment, medical equipment, steel, beer,distilled spirits, pharmaceuticals, paper, toys and furniture (CongressionalDigest). These are some of the most important industries in the United Statesand are some of the most competitive in the world.
As stated by the US report onGATT, a key provision was that it “significantly lowered access to marketsthat represent approximately 85% of world trade in terms of reduced tariffs onspecific items of key interest to US exporters”. There have been tariffreductions ranging from 50 to 100% on important electronics software (US reporton GATT 2). The most important sector to be included is agriculture.
For thefirst time, all agricultural tariffs are bound and reduced. GATT strengthenslong term rules for agricultural trade, reduces agricultural export subsidiesand opens new markets. Intellectual property such as patents, trademarks andcopyrights for movies, computer programs, books and music is also protected.
Many of the industries listed above deal with technology and are crucial toeveryday life. By promoting the reduction of tariffs in the sectors of theeconomy important to the United States, industries will be able to expand andgrow. The way that industries will be able to grow is through the reduction oftariffs. While barriers to trade come in many forms, the tariff has been used toprotect domestic industries from foreign competition.
The negative aspect oftariffs is that they reduce the amount of goods produced for export. Graph 1exhibits the effects of a tariff on quantity supplied by United States. Let’ssuppose the tariff is on imported French wine.
At normal equilibrium, quantitydemanded of wine equals quantity supplied at one hundred billion and a price of$2. That is the United States would supply 1 billion bottles of wine. However, atariff creates a situation similar to a price ceiling. The tariff causes theprice to decrease to $1 and the quantity supplied decreases to .5 billion whilequantity demanded increases to 1.5 billion. The effect of the tariff is todecrease the quantity supplied by the United States. To producers in the UnitedStates that means a decrease in the production of goods and services.
Thereverse happens when the tariff is reduced. Quantity supplied will increase,that is more goods will be produced for trade. This increase in exports hasother implications on the economy.
Since exports will be increasing at a higherrate than imports the net exports will be positive. Aggregate expenditure equalsspending by consumers, investors, government and net exports. An increase in thenet exports will increase the aggregate expenditure shifting it to the right.This is seen in graph 2, where the aggregate expenditure curve (AE) shifts tothe right (AE’). As shown by the graph, the level of national income increasesfrom 250 billion to 300 billion. Therefore, increasing net exports will increasethe level of national income. “By eliminating import taxes, world incomewill increase as much as $5 trillion in the next 10 years. Higher world incomesmean more demand for our commodities” (Kleckner 1).
With an increase innational income, the standard of living in the United States and otherparticipating economies should increase. More jobs will be created for theunemployed, helping the economy reach the full employment level. At this level,all resources would be in use. Similar to other free trade agreements, thepurpose of those formed through the EFTA is to strengthen European as well asinternational economies. In establishing a strong foundation for free trade, itseems that the EFTA has done much good for economies within Europe. According tothe EFTA web page, “Ministers emphasize EFTA’s strong credentials as a freetrade organization and underline that free trade and economic integration playan increasingly important role in securing work, welfare, peace, and democracyin Europe” (EFTA Page).
Its visible effects on international trade provideonly a nominal indication of the many accomplishments of the EFTA; its work canalso be observed in terms of its underlying affect on the economy. Inestablishing strong international relationships, it has expanded the level ofexporting and importing, increased employment, raised consumption, and ineffect, also enhanced the average GDP for countries active in the EFTA(Fortune). Each part of this integration serves a beneficial purpose, andpositive aspects of the EFTA’s work are evident in economies throughout Europe.As the EFTA has worked to strengthen relationships not only within its membercountries, but all over Europe and the rest of the world, it has establishedmany alliances, thus creating a solid base for foreign trade. The level ofexporting and importing, particularly among European countries has shown adefinite increase. The expansion of foreign trade creates potential for moreemployment opportunities; it can also be directly related to its aggregatesupply, and in effect, its level of GDP.
The increase in exporting, being asignificant expenditure included in the calculation of GDP, is shown in itseffect on GDP growth. Within the free trade of the EFTA, the level of employmentin member countries also has been affected. As the degree of economic activityincreases due to free trade alliances, many areas, including that of employmentalso begin to change direction. The expansion of exporting mentioned beforeplays a role in the variable level of employment. Increased employment will addto the level of human capital as rising imports and exports expand capitalresources, thus contributing to an outward shift in the aggregate supply curve.Any increase in resource availability for land, labor, capital, orentrepreneurship will allow for an outward shift in the production possibilitiescurve, followed by a similar shift in the aggregate supply curve, eventuallyincreasing real GDP. Rising employment can also effectively create a rise inconsumption and in average national income, ultimately adding to real GDP.
Consumption can be affected not only by a rise in the employment level, but alsoby the reduction in tariffs provided by the EFTA. When consumers have to payless for their goods, their level of real wealth has the effect of increasing.Lower prices enable them to buy more goods with the same level of income; thereis the illusion of greater income. This feeling of increased wealth, along witha rise in the actual level of employment, contributes to increased consumption.The increasing degree of consumption will, again, lead to greater nationalincome, and to a higher level of real GDP.
A rise in trade combined withincreasing levels of employment and consumption allows for potential growth inthe level of GDP. According to Fortune magazine, the average GDP of thosecountries belonging to the EFTA rose an average of 2.1% each year (Fortune 7).As trade, employment, and consumption increase together, GDP has a tendency todo so as well. EFTA countries approaching a level of full employment due tochanges in trade, tariffs, and consumption will eventually experience itsbeneficial effect on the economy.
Conclusion In general, it seems that each ofthe researched trade agreements has been successful in promoting overalleconomic growth throughout the regions of the world. NAFTA MERCOSUR The positiveeffects of GATT are numerous and widespread. GATT has proved to be highlysuccessful in removing barriers to trade in goods. In eight consecutive rounds,GATT has lowered tariffs on manufactured products from more than 40% to below 4%among developed nations. “In part as a result, world merchandise trade,measured in the tens of billions of dollars at the inception of GATT, now standsat $5 trillion” (Break down the barriers).
This growth has broughtprosperity to developed countries as well as developing countries. Some of thesebenefits are result of the larger scope of world trade rules and the largeproportion of the economy that is covered under GATT. The EFTA has been fairlyeffective in following through with its one underlying goal, the removal oftrade barriers within and outside of the EFTA. It has also been proficient incultivating its relationships with third world countries. Its success in theseareas has allowed for the growth of its member countries in areas of trade,employment, consumption, and eventually also national income and real GDP. Itseems, however, that it needs to do more in order to have a more influentialpresence.
Since its initial founding, the number of member-countries in the EFTAhas dwindled from seven to only four. The EFTA is clearly not the most prominentfree trade organization in Europe; it is apparent that the European Union holdsthe position of dominance, as many EFTA countries have defected to the EU overthe years. The EFTA’s minority power in Europe and the simple reality of itssize may cause many countries to brush it aside. While it has united with theEuropean to Union to accomplish many things such as the European Economic Area,it might be more effective if it could handle more significant matters on itsown. Bibliography EFTA Page. EFTA Secretariat EFTA Surveillance Authority EFTA Court. 23 March1999 *http://www.efta.
int/structure/main/index.html*. “How They AddUp.” Fortune 126.
13 (14 Dec. 1992): 152 – 153. http://www.americasnet.com/mauritz/mercosur/english; MERCOSUR Sabkar, Maysoon; http://bmb.net/our_views/Reports/Country/paraguay_1.
htm, 1998 http://www.embassy.org/uruguay/econ/mercosur/merc-002.htm ; Embassy ofUruguay, Washington D.C.
1996 http://www.heinlein.com.ar/eco.htm ; ArgentinaBriefGovernment